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Global financial markets are in turmoil, currency wars are heating up,
commodities are crashing into the ground, and the omnipotent central banks are
proving to be utterly incompetent to cope with the emerging crisis.
Running
of the bulls in Pamplona, Spain, is a fantastic, adrenaline-rushing, heart pounding
event held from July 6-14 every year during San Fermin festival. The event
involves running a few bulls – typically six – let loose on a cordoned off
street. And, in front of them, runs a small crowd of youngsters full of
bravado.
As
is the case, when you run in front of bulls that are surely pissed off, there
are bound to suffer injuries – sometimes death by goring. Typically 50 to 100
people are injured as the bulls make a mad dash to the final destination – a
bullring where the event ends.
The
bull on the Wall Street also seemed to be in the running mood – but just not
the kind that the traders and markets expect. Instead of running up the pre-charted
lane – i.e. running the markets higher – the bull on the Wall Street seemed to
have other ideas regarding the direction he should take to run.
And
the end result was not pretty good.
Nobody was prepared for the bull running amok.
For
Dow Jones industrial average it was the very wild ride. From plunging more than
1000 points at the start of the trading, it stabilized little bit during the
mid-day session before plunging and then stabilizing again little bit, only to
see it fall by 588 points by the end of the trading day.
According
to Marketwatch, Black Monday saw 1.8trillion of the wealth of American households getting wiped out from the
market. The pension funds seem to have been hit pretty hard as they are most
dependent on high rate of return to fund the pension obligations to the
retirees.
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As of March 31, households and nonprofits held $24.1 trillion in
stocks. That’s both directly, and through mutual funds, pension funds and the
like. That also includes the holdings of U.S.-based hedge funds, though you’d
have to think that most hedge funds are held by households.
Using the Dow Jones Total Stock Market index DWCF, -1.24% through midmorning
trade that number had dropped to $22.32 trillion.
In
other words, a cool $1.8 trillion has been lost between now and the first
quarter — and overwhelmingly, those losses occurred in the last few days.
This will probably be the worst quarter for stock-market destruction since
the third quarter of 2011, when $2.8 trillion was wiped away.
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But
why did the bull market – which was going up and up all the time – got into
such a tailspin from which it might be very difficult to recover? According to various experts, the recent
upward trajectory of the stock was nothing but a creation of a bubble as the
fundamentals were not able to justify and which was bound to burst. And burst it
did on Black Monday.
The
root of the stock market crisis can be traced back to the meltdown of
2008. Stunning collapse of the Lehman
brothers – in less than 24 hours – threatened to take down the global financial
sector with it. In order to prevent that the central banks, acting as a lender
of last resort, printed – out of thin air – vast amounts of money which they
pumped in the financial sector to prevents its collapse.
But
as is the case with law of nature, all good times eventually have to come to an
end. And, so the party that began in 2008 seems to be nearing its end in 2015. There are a number of factors that seem to be causing
the panic in the market. Instead of detailing all of them, let us just consider
the few major ones.
The
number one factor that is causing the turmoil in the market is China which
acted as a savior of the world economy in 2008. By implementing a massive
stimulus package, China fueled a massive construction boom pulling all the
sectors of the economy with it – ranging from commodities to other resources. But
now the Chinese economy has hit a bump and slowing down. It‘s economic growth
this year is going to be below 7 percent. Given the totalitarian nature of the
Chinese media, one can safely assume that the growth would be much lower than
that. And, that is a scary scenario to assume.
In
order to stimulate its economy and flagging export sector, China has devalued
currency which has sent shock waves throughout the world. By devaluing Yuan,
China has effectively started a currency war. Other nations also - not wanting
to be the left alone – have entered the fray. Recent example is Kazakhstan,
another oil exporter which allowed its currency to float freely resulting in
25pc drop in its value.
Every
nation in the world is now in the race to protect its export sector and the
only way they can do it is by devaluing their own currency – a kind of race to
the abyss. How long before USA gets into the game as a very strong dollar would
certainly put a kibosh on USA exports, is anybody’s guess. Eventually, US too,
would have to enter the currency war and the race to the abyss would begin in
earnest.
The
second factor that is causing the panic is falling commodity sector –
particularly oil sector. The weak economic growth of China has put a damper on
its demand for oil which is exerting a downward pressure on the oil prices
thereby creating massive turmoil in the economies of the oil producing nations.
In
addition, there is also a glut of oil in the market since OPEC – led by Saudi
Arabia – is refusing to lower the production output – a stance borne out of
cold war style geo-political calculations of trying to destroy Russian oil
sector but gone awfully wrong for both the USA and Saudi Arabia.
By
glutting the market with oil, USA and Saudi Arabia hoped to crush Russian oil
sector thereby depriving it the major source of revenue which would have triggered
massive demonstrations against President Putin resulting in his overthrow and
replacing him with someone amenable to western interest – a la Yeltsin. At
least that was USA’s plan – not a new plan but a rehash of the plan of mid
eighties.
But
nature has a tendency – and political field certainly does – to make sure that even
the well formulated plans go awry. Russia has withstood the falling oil prices.
On the contrary, USA and Saudi Arabia’s plan of colluding to keep oil prices
down has boomeranged on the US shale oil industry. Saudi economy – totally dependent on the oil
revenue – is also suffering. Its stock market registered a 7 percent drop due
to falling oil prices.
(Needing
a minimum of $80 per barrel, the price of $40 is a death knell for shale oil
industry as many of the players involved had borrowed money from the market in
anticipation that the price would remain at or above $80 to remain profitable.
The falling oil prices have put many of the companies on the path to bankruptcy
with all the associated detrimental consequences like lay-offs etc.)
Last,
and perhaps the most important, factor is the dithering by US Federal Reserve
regarding the interest rate hike. Many investors are nervous over the ambiguity
shown by Federal Reserve and are fleeing the market in droves for the safe
haven assets like Swiss treasuries, gold etc.
Investors,
who were hoping for strong dollar and had invested in it, are becoming aware
that the Federal Reserve is not going to increase interest rates – despite the
constant talk of carrying out a rate hike – as they do not want to pressure the
economies of its trading partners. In addition, the stronger dollar would also
kill US exports as they become uncompetitive.
The US Federal Reserve is thus caught in a bind. If it raises
interest rates, then saving cash in a bank would be an attractive proposition.
In that case, stocks would suffer. It would also create tighter credit
condition – another damper on the corporations.
On the other hand, if it does not raise interest rates, then there
would be no point in investing in dollar which would simply spark a flight into
safe haven like Swiss treasuries, gold etc. Stocks would again get hammered.
The Federal Reserve is thus caught between a rock and a hard
place. And, there is nowhere else to go (not even short term interest rates would
be sufficient as this would be just a band-aid).
Does that mean, Federal Reserve has thrown in a towel and are
preparing for the global crisis? I don’t know and – I hope – I am wrong to draw
this conclusion, but the ambiguity certainly seems to be pointing in that
direction. All the talk of suspense is just to try to keep the current chaos
from descending into uncontrolled frenzy.
As a matter of interest – think about it – if there is a flight
out of dollar as they are no longer attractive, does that mean we are seeing a
slow death of petro-dollar? All the bilateral agreements happening between
nations bypassing dollar also seem to be pointing in that direction.
Talking heads on TV are proclaiming that the markets could be in
for 10% correction and no more. But the reality is that nobody knows how far
the stock market correction would go. Therecould even be 70% correction and Dow Jones Industrial Average could fall to5000 level.
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By
Brett Arends
Published:
Aug 24, 2015 10:46 a.m. ET
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(I urge the readers to please read the whole article as
it features a graph from Federal Reserve.)
The markets on Tuesday opened higher but the rally fizzled and by
the end of the day, Dow Jones Industrial Average was back into red losing
nearly 205 points.
The raging bull, it seems, has gotten loose and on the wild run
destroying everything in its path – just like the bull in a china shop.
The global economy is certainly facing financial Armageddon.
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